The Performance of the 60/40 Portfolio: A Historical Perspective

This report explores the importance of asset allocation in shaping long-term investment returns, focusing on the widely used 60/40 equity/bond portfolio model. While the strategy has been a longtime cornerstone for pension funds and long-term investors, shifting economic conditions may present challenges to its continued effectiveness.

“The Performance of the 60/40 Portfolio: A Historical Perspective” is the first of a two-report series. The second report will assess the 60/40 strategy’s future viability.

The report leverages the Dimson–Marsh–Staunton (DMS) Global Investment Returns database, which provides data since 1900 on stocks, Treasury bills, bonds, inflation, and exchange rates across 35 countries. The key markets analyzed are Australia, Japan, the United Kingdom, and the United States, with references to European and global indices for benchmarking. The report examines the performance of the 60/40 portfolio in these markets from 1901 to 2022.

Variable Stock–Bond Correlations

The research finds that stock–bond correlations have been highly variable over the past century, contrary to the assumption of consistent negative correlation. This variability has significantly influenced the 60/40 portfolio's ability to provide diversification benefits during various market conditions. Notably, periods of positive correlation between stocks and bonds have undermined the strategy’s effectiveness, especially during simultaneous market downturns.

Generational and Market Differences

The report highlights the generational and market differences in investment outcomes. For example, baby boomers generally have benefited from more favorable market conditions and stronger 60/40 portfolio performance compared with other generations, especially millennials. These generational differences are less pronounced in regions with stable long-term returns, such as in the United States and Australia.

Market differences are the most pronounced in the case of Japan versus the other markets studied. Japan faced greater challenges, with higher portfolio volatility, lower efficiency, and weaker overall performance. Japanese 60/40 portfolios delivered annual real returns of 2.95%, the lowest among the markets studied, and exhibited higher drawdowns, reflecting less favorable investment opportunities.

International Diversification and Alternative Investments

International diversification within the 60/40 portfolio produced mixed results. It proved beneficial for investors in Japan and the United Kingdom, enhancing returns and reducing risks in these markets. It was less effective in Australia and the United States, however, where domestic investments offered higher returns and better risk-adjusted performance. This variation underscores the need for region-specific strategies when incorporating international exposure.

The report also explores the impact of adding alternative assets to the 60/40 portfolio. Commodities, private equity, infrastructure, real estate, and inflation-linked Treasury bonds provided diversification and boosted returns, but they also increased portfolio risk, reducing efficiency as measured by the Sharpe ratio. High-risk assets like Bitcoin presented opportunities for exceptional returns but introduced significant volatility. Given limited historical data, these dynamics are observed primarily in the short term, highlighting the need for caution when incorporating such assets.

Summary

The 60/40 portfolio remains a valuable tool for long-term investment, but its effectiveness depends on understanding historical trends, market-specific factors, and the evolving economic landscape. By adapting strategies to align with these dynamics, investors can better manage risks and achieve their financial objectives.

Key Findings

• Dynamic Stock–Bond Correlations: Correlations between stocks and bonds have varied significantly over time, affecting the portfolio’s diversification benefits. Contrary to expectations, correlations have not consistently been negative, particularly during periods of economic stress.
• Generational Performance Differences: Baby boomers experienced more favorable market conditions and stronger returns compared to millennials. However, this generational gap was less pronounced in stable markets, such as in the United States and Australia.
• Impact of Economic Shocks: The simultaneous decline in stocks and bonds during 2022 exposed vulnerabilities in the 60/40 model’s ability to provide effective diversification during severe downturns.
• Market-Specific Challenges: Japan emerged as the riskiest market, with the highest portfolio volatility and drawdowns, underscoring the need for careful evaluation of market-specific risks.